Regulation – For whom the bell tolls

Regulation - For whom the bell tolls

After billions of pounds in losses and near collapse, Lloyd's is struggling to regain public confidence, writes Theresa Sweeny

Last month, a long-running saga at Lloyd?s broker James Hunt Dix came to an end when liquidators from Kidsons Impey arrived to wind down the company.

The wrangle before the collapse had been a long one. The corporation?s regulators had placed the brokerage under investigation amid claims that it was trading while insolvent. James Hunt Dix denied the charge and, during a prolonged court battle, specialists from Price Waterhouse were sent in by the regulator to determine the exact level of the company?s solvency.

The courts allowed the broker to continue trading during the examination of its records. PW had to test the company?s claim that the money owed to it by insurers was sufficient to buoy up its balance sheet, but in the end the test became academic. The brokerage ran out of money.

At present, Lloyd?s is self-regulated. Its council, which is made up of 21 elected representatives of the market, forms and implements policies on the regulation of business conduct and finance under the remit of the 1982 Lloyd?s Act.

The only aspect of regulation at Lloyd?s that falls outside of the control of the council is the solvency test. Once a year, officials from the Department of Trade and Industry pore over the books at the market to assess whether it is trading in a financially sustainable way.

If the brokers and syndicates trading on the market are deemed by DTI accountants to have adequate cover to meet their liabilities in the case of claims, Lloyd?s gets a clean bill of health.

The practice of regulating through a single external insolvency test has often been criticised in the past. Loss-suffering names, the members at Lloyd?s whose assets have traditionally supported the market, have complained the DTI has been too lenient in assessing the corporation?s ability to pay claims and continue trading.

Names point to the disastrous losses the market suffered at the end of the 1980s and the beginning of the 1990s as evidence. After lengthy and successful litigation against external auditors, such as Ernst & Young and the corporation, change seems inevitable.

The future of Lloyd?s

The first fruits of a review set up by Lloyd?s in 1996 were published in May last year by the Lloyd?s Regulatory Review Group, which consists of representatives of senior members of the Lloyd?s market and independent experts.

It recommended Lloyd?s should become accountable to an outside agency, while the council of Lloyd?s should retain the responsibility for regulating the market. Lloyd?s is currently in talks with the Financial Services Authority over the scope of any future regulation by the government body.

But one of the key steps towards rebuilding confidence in the market has been to increase the regulation of brokers. Lloyd?s brokers liaise between insurers and underwriters. The companies at Lloyd?s that handle insurance business are called syndicates. They are often small businesses that can provide specialist insurance for assets ranging from racehorses to Rembrandts, and they pay the brokers commission for finding the clients.

The Prudential Supervision Committee, part of the Lloyd?s Regulatory Board, has been charged with looking into improving solvency checks on brokers. It has not made any specific recommendations, but commentators believe that any new guidance could be tough.

?Lloyd?s wants to be the best, so brokers will have to jump over some pretty horrendous hurdles,? says John Thomp-son, manager of the Individual Registration department for brokers at Lloyd?s. But Anthony Blake, a partner specialising in Lloyd?s brokers at accountants Neville Russell, is not sure what the recommendations are intended to achieve. ?They are not at all specific about what they want and they haven?t given any indication about what they are planning,? he says.

A consultation document that looked specifically at Lloyd?s brokers in June last year resulted in the council amending the terms of broker registration. This could be the first step down the right road to change. A bylaw was extended to force directors, partners and compliance officers of registered Lloyd?s brokers to pass new tests.

Many hoops to jump through

?This is a more rigorous process of registration, as each director and compliance officer will be looked at individually to check if they are fit and proper in terms of their integrity, professional competence and compliance with the regulatory requirements,? says Thompson. ?Brokers will have to first get through the hoop before they operate in the market in case they later do something heinous.

?It?s all part of attempts by Lloyd?s to regulate the market to ensure that only fit and proper brokers are operating at Lloyd?s. This will prevent those brokers who are not desirable from working there.?

Since February this year, 117 people have applied to register as brokers and 51 of these were rejected. The remaining 66 were registered but with conditions including proving their academic qualifications and working to time restrictions.

The main reasons for turning down the other applicants, according to Thompson, include ?poor business records, deliberate non-disclosure and plans for insufficient time to be spent on the function they had applied for? – which, he says, proved regulation is becoming tighter at Lloyd?s.

Blake explains there are now three solvency tests for brokers. First, they have to pass a margin test between debts and creditors. Second, their current assets have to exceed their current liabilities. Finally, brokers have to be able to show they have a certain level of assets defined by set solvency margins.

But those who trade at the corporation fear the move towards tougher regulation at Lloyd?s could be in danger of stifling the market.

In an attempt to meet these concerns, the reviewers at Lloyd?s have drawn up a list of five factors that they must take into account when assessing how to structure the overall regulatory framework. They believe that the market should remain efficient, competitive, flexible, equitable and not too costly.

?Lloyd?s has made great strides in sorting out regulation. It is an area of continuous improvement,? says John Ryan, a principal in Tillighast-Towers Perrin, the actuarial consultancy. ?But I think it?s important to maintain high standards without becoming bureaucratic or over-regulated.?

Lloyd?s cannot wait forever and watch market confidence wane. Another James Hunt Dix could prove damaging to the market, although action could come sooner than the pundits expect.

?The bandwagon has only just started to roll but we intend to finish the process by the end of the year,? says Thompson. And that could be good news for all concerned.


Traditionally there has been a three-year accounting system at Lloyd?s, which means an underwriter?s accounts can remain open while claims that take a long time to settle are processed. This means accounts for the year 1998 will be closed at the end of 2000 and any unsettled claims from old business are hived off into new syndicates.

Each syndicate changes every year as its investors, either names or corporate capitalists, change. But the accounts are reported at the end of three years. Some syndicates can choose to operate on an annual basis but the market as a whole does not. Accounting experts have complained that this is archaic and that Lloyd?s needs to modernise the reporting of syndicate results.

But last year, consultation between auditors and a Lloyd?s working party accepted that the corporation should take steps to move towards an annual accounting period. The council of Lloyd?s, which is made up of elected representatives of the market, is looking into the recommendations of the working party and the practical considerations of adopting annual accounting practice.

?One of the issues that Lloyd?s has begun to realise is that the financing of the market has changed rapidly since corporate investors have come into the market,? says James Dean, partner at Price Waterhouse. ?Many of these are North American and answer to US General Accounting Practice rules, where they have to submit annual accounts. They are caught between two regimes and have to do two sets of bookkeeping.?

Annual accounting period immaterial to some syndicates

Many experts believe that an annual accounting period will not make a significant difference to some syndicates. ?At present, Lloyd?s is required by law to account on a three-yearly basis. This is a sensible option for the way that Lloyd?s is structured,? says Ken Davies, partner at accountant Pannell Kerr Forster. ?A lot of syndicates already produce their figures on an annual basis. But in some cases syndicates don?t get a claim for years. The three-year accounting period was adopted because of this problem.?

?If you?ve got long-term claims it might be better to have a three-year accounting system, but in some cases there are quicker claims. Some people think it will cut down on costs, but I can?t see where the savings will come from,? says Davies.

Dean does not agree that life will be difficult for those who will have to estimate future claims under a new system. ?There are many exotic insurers who will have to estimate their liability, but the UK motor business and many other specialists with high risks already operate on an annual basis.?

While Davies believed that the accounting procedures as they currently stand have been sufficient to serve the market for the last three hundred years, other industry figures now think that change is long overdue.

Theresa Sweeney is a freelance journalist

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